Crypto

jthawks

October 31, 2018 06:15 AM GMT

​Update: Bitcoin, Cryptocurrencies and Blockchain

​James Faucette, Betsy Graseck, Sheena Shah

​October 31, 2018

Morgan Stanley does and seeks to do business with companies covered in Morgan Stanley Research. As a result, investors should be aware

that the firm may have a conflict of interest that could affect the objectivity of Morgan Stanley Research. Investors should consider Morgan

Stanley Research as only a single factor in making their investment decision. For analyst certification and other important disclosures, refer to

the Disclosure Section, located at the end of this report.

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 1


Summary of the Last 6 Months

1. Bitcoin/Cryptos: Rapidly morphing thesis

2. Bitcoin/Crypto prices fall—Results:

a) Not surprising: trading volumes fall (generally), news flow/interest growth slows

b) May look surprising but shouldn’t be: electricity consumption increases, still active

(albeit slowly) ICO market (but moving to unregulated geos)

c) Surprising: New fund formation strong, futures grow

3. ICO’s are largely failing, and failing fast. But not going to $0. Nobody seems to be

noticing accumulating massive losses.

4. Blockchain trials spread within financial services, but benefits mainly unclear

5. Early blockchain application uses: cross-border transfers, shipping and trade finance,

reinsurance.

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 2


Bitcoin/Crypto: Rapidly Morphing Thesis

Overarching: A better world through decentralization

I. What has happened with Bitcoin

First: Bitcoin as digital cash: untraceable but full confidence in value (2009-2016)

Then: Bitcoin as antidote to incumbent financial system and central bank (2010-2017)

Then: Bitcoin as replacement for existing payment system (2010-2017)

Then: Bitcoin & Cryptos as new fundraising and capital allocation mechanisms (2015-2018)

Then: Bitcoin as store of value: Gold alternative (2017-2018)

Then: Bitcoin disruption advantaged refuge for depreciating currency (Spring – Summer 2018)

Now: Bitcoin & Cryptos as new institutional investment class (2017-Present)

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 3


I. What has happened with Bitcoin

Bitcoin/Crypto: Rapidly Morphing Thesis

Digital Cash: Untraceable but full Confidence

2009 2016

Incumbent Financial System Antidote

2010 2017

Replacement Payment System

2010 2017

New Fundraising and Capital Allocation Mechanisms

Store of Value

Disruption Advantaged Refuge for Depreciating Currency

New Institutional Investment Class

2015 2018

2017 2018

Spring 2018 Summer

2017 Present

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 4


Size of the Cryptocurrency market and liquidity

II. Bitcoin’s Market & Liquidity

• Bitcoin and Ethereum Value

Bitcoin value ($)

25,000

20,000

15,000

10,000

5,000

0

Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18

Ethereum value ($)

1,600

1,400

1,200

1,000

800

600

400

200

0

Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18

Source: blockchain.info, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 5


Size of the Cryptocurrency market and liquidity

• Trading volumes falling with prices

II. Bitcoin’s Market & Liquidity

Bitcoin Daily Trading Volume ($mn)

6,000

5,000

4,000

3,000

2,000

1,000

0

Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18

Ethereum Daily Transaction Count (thousands)

1,600

1,400

1,200

1,000

800

600

400

200

0

Jan-16 Jun-16 Nov-16 Apr-17 Sep-17 Feb-18 Jul-18

Source: blockchain.info, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 6


Size of the Cryptocurrency market and liquidity

• 54% of total cryptocurrency value is in bitcoin

• Over $200bn spread over 2000 coins/digital assets

II. Bitcoin’s Market & Liquidity

# Name Symbol

Price

(USD)

Total Float

(USDbn)

Total Float

(% total)

Volume 24h

(USDmn)

Supply

(USDmn)

Supply

(% max)

Max

coins

(mn)

1 Bitcoin BTC $6,477 112 54 3281 17.3 83% 21 Y

2 Ethereum ETH $204 21 10 1176 102.8 N/A No Y

3 XRP XRP $0.46 18 9 281 40206 40% 100000 N

4 Bitcoin Cash BCH $440 8 4 254 17.4 83% 21 Y

5 EOS EOS $5 5 2 333 906.2 N/A No Y

6 Stellar XLM $0.23 4 2 37 18895 N/A No N

7 Litecoin LTC $52 3 1.5 285 58.9 70% 84 Y

8 Tether USDT $0.99 2 0.9 1797 1926.4 N/A No N

9 Cardano ADA $0.07 2 0.9 13 25927 58% 45000 Y

10 Monero XMR $106 2 0.8 12 16.5 N/A No Y

Mined?

Source: Coinmarketcap.com, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 7


II. Bitcoin’s Market & Liquidity

What is bitcoin traded against?

Moving increasingly towards trading vs the stable coin USD-Tether (USDT).

Half of bitcoin trading is versus a digital asset now.

Bitcoin trading by currency

(25-Oct-18,1m av)

Latest (25-Oct-18, 1m av)

Crypto

52%

Fiat

48%

Source: CryptoCompare, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 8


II. Bitcoin’s Market & Liquidity

What is bitcoin traded against?

2017 saw a transition away from DM fiat currencies towards stable coins.

EM fiat currencies are a small proportion of total trading volumes.

EUR,

JPY, 3.6%

8.0%

Bitcoin trading by coin

(25-Oct-18, 1m av)

BCH,

0.9% Others,

3.2%

KRW,

13.6%

USD,

20.1%

USDT,

50.7%

Source: CryptoCompare, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 9


II. Bitcoin’s Market & Liquidity

Rise of the Stable Coin

Definition: Digital coin/cryptocurrency that has aims to have a stable value versus a known counterpart,

keeping volatility low. Typically valued against fiat currencies, commodities and crypto assets.

Examples

- USDT (US Dollar Tether) – trades around 1 US dollar. Company issues USDT into the market and

puts one USD into a bank. All issued digital coins are backed by USD.

- USDC (USD Coin) – trades around 1 US dollar. Created by Coinbase and Circle. Aims to provide a

liquid digital solution for trading crypo-assets that follows the US financial regulation.

- DGX (Digix Gold Coin) – trades with one gram of gold in USD. Gold is held in Digix’s Singaporean

bank and audited by a French certification company.

Why not just trade the counterpart (USD, gold, etc)? Benefits from blockchain technology so some

consider as a digital store of value. Easier to get digital exposure to assets like gold which are expensive

to transport and store.

Source: CryptoCompare, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 10


II. Bitcoin’s Market & Liquidity

Rise of the Stable Coin

What developments to watch?

USDT took an increasing share of BTC trading volumes as cryptocurrency prices started falling. This

occurred because many exchanges only trade crypto->crypto and not crypto->fiat. Trading crypto->fiat

requires going through the banking sector which charges a higher fee. Also as bitcoin prices fell, so did

most all other coins so if owners wanted to come out of bitcoin holdings, they needed to go to another

asset which was closer to the valuation of the US dollar.

Many large cryptocurrency exchanges and companies

are creating their own stable coins, part of the next wave

of development over coming years.

Types of stable coins

Similar to the FX world, not all stablecoins will survive so

we watch for ones with the lowest transaction costs,

highest liquidity and defined regulatory structure which

will all increase adoption.

Source: Blockchain.info, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 11


II. Bitcoin’s Market & Liquidity

Why is bitcoin stable?

• The realised volatility of bitcoin has fallen to the lowest level since the start of 2017.

• As the cross crypto correlation stays high.

• Price stability comes are markets wait for the next technological development that

increases adoption of the underlying asset or derivative.

Source: Macrobond, CryptoCompare, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 12


Bitcoin bear market: eased for now?

Breakdown of

the bear market

Bitcoin has tracked the peaks

and troughs from Nasdaq in

the year 2000. Question now

is whether the bear market is

coming to an end in the way

the Nasdaq’s did?

20000 5600 5600

5100

18000 5100

4600

16000 4600

4100

14000

4100

3600 3600

12000

3100 3100

10000

2600 2600

8000

2100 2100

6000

1600 1600

4000

1100

2000

600 600

0

Nasdaq composite

Bitcoin (left (right axis)

II. Bitcoin’s Market & Liquidity

Peak Trough Peak Trough Peak-Trough Trough-Peak Peak-trough Trough-peak

18-Dec-17 22-Dec-17 19511 10776 4 -45%

05-Jan-18 17-Jan-18 16933 9186 12 14 -46% 57%

29-Jan-18 06-Feb-18 11785 5922 8 12 -50% 28%

06-Mar-18 06-Apr-18 11671 6514 31 28 -44% 97%

04-May-18 29-Jun-18 9795 5791 56 28 -41% 50%

25-Jul-18 14-Aug-18 8480 5887 20 26 -31% 46%

05-Sep-18 26-Oct-18 7406 6383 51 22 -14% 26%

Average 26 22 -39% 51%

Nasdaq

20000

18000

16000

14000

12000

10000

8000

6000

4000

2000

0

Bitcoin

Bitcoin

Source: Bloomberg, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 13


II. Bitcoin’s Market & Liquidity

Retail investors stay put as institutional investors get involved

Cryptocurrency fund AUM US$7.11bn (CryptoFundResearch estimate).

• Types: 48% hedge fund, 48% venture capital, 3% private equity.

• Location: 50% US, 9% China/Hong Kong, 6% UK.

250

200

150

100

50

0

Number of cryptocurrency funds created

220

198

107

31 32

45

Prior 2014 2015 2016 2017 2018e

8000 Crypto Assets Under Management (USDmn)

7110

7000

6000

5860

5580

5000

4000

3000

2000

2200

1000 190 380

675

0

Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18

Source: CryptoFundResearch , Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 14


Previous fundraising via ICOs is being liquidated

II. Bitcoin’s Market & Liquidity

• A large proportion of newly created digital coins (ICOs) were issued in exchange for ETH (Ether).

• Companies issuing new coins planned to use the funds to pay for research and development.

• ETH valuation losses this year have caused some companies to liquidate ETH (into USD), putting

downward pressure on the coin.

• Next development watched is the creation of STO (security token offerings or regulated ICOs)

ETH liquidated (rhs)

Source: : Santiment.net, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 15


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Thesis break down: Bitcoin as Digital Cash

2009 2016

- By 2016, pretty clear that having a permanent record of transaction eliminates

the anonymity

Response: Monero, Zcash, Bitcoin Private, etc.

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 16


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Thesis break down: Bitcoin as Digital Cash (cont.)

2009 2016

Hacks and losses: Sorry about that, no recourse

- Coinrail, Jun 2018, $40mm

- WSJ flagged 271 ICOs, which cumulatively raised over

$1bn, for having plagiarized investment documents,

missing/fake executive teams, etc. Investors have

claimed $273mn of losses in these projects.

- Titanium, April 2018, $21mn

- LoopX, Feb 2018, $4.5mn

- PlexCoin, Dec 2017, $15mn

- NiceHash, Dec 2017, $63mn

- Bitfinex, Aug 2016, $72mn

- Mt. Gox, Feb 2014, $487mn

Over $630mn total, not including other cryptocurrencies

Response: Coinbase, others start to assume bank type responsibilities

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 17


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Thesis break down: Incumbent Financial System Antidote

2010 2017

Investment tenet: Limited quantity—21M

• Why it is failing: Anybody can create a “hard fork” of

the open source code, which in turn can create a new

currency for those that already hold Bitcoin. We view

these hard forks as being like stock splits or new

class creations.

Bitcoin’s Hard Forks:

1 Aug 2017—Bitcoin Cash

24 Oct 2017—Bitcoin Gold

24 Nov 2017—Bitcoin Diamond

12 Dec 2017—UnitedBitcoin

12 Dec 2017—Bitcoin X

12 Dec 2017—Super Bitcoin

28 Feb 2018—Bitcoin Private

But unlike a stock split, the fork is not lowering

the price per Bitcoin

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 18


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Thesis break down: Replacement Payment System

2010 2017

Investment tenet: New electronic payment system for

underbanked—only need a phone.

Why it is failing: Financial inclusion is of

increasing priority for all payment players. The

new QR-based payment schemes in India show

that reaching the underbanked can be done

much less expensively than Bitcoin.

Investment tenet: Become part of the global financial

system fabric.

Why it is failing: the high costs of operating a

fully trustless system is pushing early players to

balkanize systems into trusted

blockchains/distributed ledgers.

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 19


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Thesis break down: Replacement Payment System (cont.)

2010 2017

​Virtually no acceptance among US eCommerce merchants

Bitcoin acceptance among top 500 eCommerce merchants

500

400

300

200

100

0

5 5 5 5 3 3 3 4 4 4 4

1Q16 2Q16 3Q16 4Q16 1Q17 2Q17 3Q17 4Q17 1Q18 2Q18 3Q18

Source: Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 20


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Thesis break down: New fundraising and capital allocation mechanisms

Total global investment in fintech companies ($bn)

50

47

2015 2018

40

30

20

10

9

6 4

12

29

25

35

ICOs

Asia

Europe

US

Estimated ICO Capital Raised Over Month (USDmn)

3000

2500

0

2010 2011 2012 2013 2014 2015 2016 2017

2000

1500

1000

500

0

M A M J J A S O N D J F M A M J J A S

2017 2018

Source: Token Economy, KPMG, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 21


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Thesis break down: New fundraising and capital allocation mechanisms (cont.)

2015 2018

2017 ICOs by Status

Capital Raised by ICOs ($B)

12

Defunct Coins

Active ICOs

Failed since

ICO

32%

Failed at

Funding

32%

Active ICOs

36%

10

8

6

4

2

0

$1.62B

$1.30B

$9.39B

$5.85B

2015 2016 2017 2018

• Approximately 32% of ICOs failed after raising money in 2017. They managed to raise $1.3B.

Source: DigRate, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 22


Jan-16

Mar-16

May-16

Jul-16

Sep-16

Nov-16

Jan-17

Mar-17

May-17

Jul-17

Sep-17

Nov-17

Jan-18

Mar-18

May-18

III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Thesis break down: New fundraising and capital allocation mechanisms (cont.)

2015 2018

ICOs vs. Startups

0% 20% 40% 60% 80% 100%

Startups 25%

Fail within the first year

ICOs*

64%

Startups

71%-75%

Fail over 10-yr period

?

Number of ICOs that Failed Before/After ICO

200

180

160

140

120

100

80

60

40

20

0

ICOs that Failed at Funding

Later Defunct Coins

Note: ICO failures includes ICOs who failed at funding and those that failed after their ICOs

• Approximately 64% of potential ICOs failed before or after their ICOs in 2017. This is a higher failure rate than seen among

startups in the first year.

Source: DigRate, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 23


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Thesis break down: New fundraising and capital allocation mechanisms (cont.)

2015 2018

Source: DigRate, CoinCodex, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 24


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Thesis break down: Store of value

2017 2018

Trailing 30 day Correlation between daily S&P500 and Bitcoin Price movements

0.6

0.5

0.4

0.3

0.2

0.1

0.0

-0.1

-0.2

-0.3

-0.4

Dec-16 Feb-17 Apr-17 Jun-17 Aug-17 Oct-17 Dec-17 Feb-18 Apr-18 Jun-18 Aug-18

Source: bitcoinity.org, Thomson Reuters, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 25


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Thesis break down: Disruption Advantaged Refuge for Depreciating Currency

Spring 2018 Summer

Bitcoin value ($)

25,000

20,000

15,000

10,000

5,000

0

Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18

Bitcoin Daily Trading Volume ($mn)

6,000

5,000

4,000

3,000

2,000

1,000

0

Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18

Source: blockchain.info, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 26


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Current Thesis: New Institutional Investment Class

Cryptocurrency fund AUM US$7.11bn

(CryptoFundResearch estimate).

2017 Present

• Types: 48% hedge fund, 48% venture capital, 3%

private equity.

• Location: 50% US, 9% China/Hong Kong, 6% UK.

250

200

150

100

50

0

Number of cryptocurrency funds created

220

198

107

31 32

45

Prior 2014 2015 2016 2017 2018

8000 Crypto Assets Under Management (USDmn)

7110

7000

6000

5860

5580

5000

4000

3000

2200

2000

1000 190 380

675

0

Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18

Source: CryptoFundResearch , Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 27


12/18/17

12/22/17

12/29/17

01/05/18

01/11/18

01/18/18

01/24/18

01/30/18

02/05/18

02/09/18

02/15/18

02/22/18

02/28/18

03/06/18

03/12/18

03/16/18

03/22/18

03/28/18

04/04/18

04/10/18

04/16/18

04/20/18

04/26/18

05/02/18

05/08/18

05/14/18

05/18/18

05/24/18

08/10/18

08/16/18

08/22/18

08/28/18

09/04/18

09/10/18

09/14/18

09/20/18

09/26/18

10/02/18

10/08/18

10/12/18

10/18/18

10/24/18

III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Current Thesis: New Institutional Class

2017 Present

Daily CME Exchange Futures Volume

10000

8000

6000

4000

2000

0

• Contract Unit: 5 bitcoins

• Price Quotation: USD per BTC

• Final Settlement Procedure: Delivery is by cash settlement by reference to the Final Settlement Price, equal to the CME CF

Bitcoin Reference Rate (BRR) on the Last Day of Trading

Source: CME Group, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 28


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Current Thesis: New Institutional Class

Average daily BTC/USD change (30 day trailing average)

2017 Present

16%

14%

12%

10%

8%

6%

4%

2%

0%

Aug-10 Aug-11 Aug-12 Aug-13 Aug-14 Aug-15 Aug-16 Aug-17 Aug-18

Source: bitcoinity.org, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 29


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Current Thesis: New Institutional Class

• Fidelity Digital Asset Services: Crypto trading and storage service

2017 Present

• Bain Capital: Led $15M Series B in Seed Cx Institutional Trading Platform

• Genesis Trading: Has lent more than $500M in cryptos since March to institutions--$130M outstanding now

• Goldman Sachs & Galaxy Digital (Novogratz crypto bank): Invest part of $58.5M round in BitGo (crypto

custodian)

• SETL: Granted license by France to operate CSD

• Vertex: Invests in Binance for a Singapore-based crypto exchange

• Coinbase: Raises $500M at $8B valuation to be crypto’s Charles Schwab/Fidelity/Nasdaq

• Gemini Trust: Hires Nasdaq to conduct market surveillance

Source: Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 30


III. Unanticipated problems/limits

Bitcoin Thesis Evolution

Current Thesis: New Institutional Class

What’s preventing more institutional investors to get involved?

2017 Present

From our client conversations we find three major obstacles preventing large scale investment in the

cryptocurrency space:

• Underdeveloped regulation so asset managers don’t want to take on the reputational risk

• Lack of a custodian solution to hold the cryptocurrency and private keys

• Lack of large financial institutions and asset managers currently invested

Source: Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 31


Bitcoin and Environmentalism: Mutually Exclusive

III. Unanticipated problems/limits

Total Energy Consumption (Megawatts)

16,000

14,000

12,000

10,000

8,000

6,000

4,000

2,000

Electricity Consumption in a year

based on estimated chip orders =

Monthly power consumption of 14-16

mn US homes

Electricity Consumption a year from

now based on Bitcoin value at $10K =

Consumption of ~5mn US homes

Electricity Consumption of

3-4 million US homes

0

23-Dec-11 23-Dec-12 23-Dec-13 23-Dec-14 23-Dec-15 23-Dec-16 23-Dec-17

Note: Energy consumption estimated based on global mining hash rate multiplied by average Joule/gigahash/s energy usage, which we assume declines linearly from 1.5 in

2014 to 0.16 in May 2018

Source: blockchain.info, Morgan Stanley Research estimates

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 32


III. Unanticipated problems/limits

Falling equipment prices: Predictable. And will drive electricity use higher.

Source: camelcamelcamel.com, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 33


Regulation of ICOs and Cryptocurrencies Globally

IV. Regulatory view on Bitcoin

Degree of regulation varies significantly, with the US seeing moderate levels

Note: Green area represent country where government has not provided guidance on regulation. Red area indicates that country has prohibited blockchain in some capacity. Source: Medium

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 34


Malta

Belize

Seychelles

Hong Kong

British Virgin Islands

USA

South Korea

Samoa

Canada

UK

Estonia

Japan

Scam

Russia

Singapore

Turkey

Poland

Armenia

Cayman Islands

Vanuatu

Argentina

N/A

Luxembourg

Mongolia

Bahamas

Singapore

Ukraine

Australia

Brazil

Indonesia

Thailand

New Zealand

Switzerland

Netherlands

Decentralised N/A

Taiwan

Mexico

Panama

India

Isle of Man

Chile

Denmark

Israel

Norway

Bulgaria

Finland

UK

Hong Kong

N/A

USA

Singapore

Turkey

South Korea

Brazil

Canada

Decentralised N/A

India

Japan

Netherlands

Poland

Scam

Argentina

Australia

British Virgin Islands

Russia

Cayman Islands

Chile

Seychelles

Ukraine

Malta

Belize

Bahamas

Estonia

Finland

New Zealand

Norway

Panama

Switzerland

Thailand

Armenia

Bulgaria

Croatia

Czech Republic

Denmark

Dubai

France

Indonesia

Isle of Man

Israel

Luxembourg

Mexico

Mongolia

Samoa

Singapore

South Africa

Taiwan

IV. Regulatory view on Bitcoin

Crypto activity driven by regulation

Exchanges are legally moving to Malta (they call themselves Blockchain Island)

1,200

1,000

Cryptocurrency trading volume by legal location of exchange (USDmn)

Allocations as of April 2018

Volumes as of August 2018

25

20

Number of cryptocurrency exchanges by legal location of exchange

800

600

15

400

10

200

5

0

0

Source: CountMarketCap.com, company websites, Morgan Stanley Research. For the left chart Binance is in Malta and OKEx in Belize. Volume from one day in April but the relative exchange rankings are still comparable if several days are

averaged

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 35


IV. Regulatory view on Bitcoin

Regulators Watching Closely… in the US

• On cryptocurrency trading, “Central to determining whether a security is being sold is how it is being sold and the

reasonable expectations of purchasers.”

-- William Hinman, head of the Division of Corporate Finance for the SEC

• “I personally think that cryptocurrencies are here to stay. I think there is a future for them. I’m not sure they ever come

to rival the dollar or other hard currencies, but there’s a whole section of the world that really is hungry for functioning

currencies that they can’t find in their local currencies. There’s 140 countries in the world, every one of them has a

currency. Probably two-thirds are not worth the polymer or the paper they’re written on, and those parts of the world

rely on hard currencies. Bitcoin [or another] cryptocurrency may solve some of the problems.”

-- Christopher Giancarlo, Chairman of CFTC

Source: cnbc.com, cnn.com, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 36


IV. Regulatory view on Bitcoin

Regulators Watching Closely… in Europe

• “The subsequent question is what do we do with those ICOs that are outside the regulatory world. We will assess that

as a board. We expect to report by the end of the year.”

-- Steven Maijoor, Chair of European Securities and Markets Authority

• “The necessary computer processes for the mass implementation of cryptocurrencies are so expensive and energyintensive

that it could not work, but that (he) did not want to speak for the future (20 to 30 years)”

-- Olaf Scholz, Germany’s Finance Minister

• “It could be more efficient to prohibit banks and other financial institutions from holding and selling cryptocurrencies,

than to directly regulate crypto.”

-- Andrea Enria, Chairperson, European Banking Authority

Source: reuters.com, cointelegraph.com, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 37


IV. Regulatory view on Bitcoin

Regulators Watching Closely… Asia

• On Japan’s FSA permitting the Japan Virtual Currency Exchange Association to police and sanction any exchanges,

“It’s a very fast moving industry. It’s better for experts to make rules in a timely manner than bureaucrats do.”

--Senior FSA Official, Japan

• “We have to carefully consider the regulatory approach for these platforms because they are new technology and may

not qualify as securities. They do not fit in the custodian, audit or valuation requirements, for instance, normally

expected under the Securities and Futures Ordinance.”

-- Carlson Tong Ka-shing, outgoing chairman of Hong Kong’s Securities and Futures Commission

• On issues surrounding cryptocurrency firms setting up local bank accounts in Singapore, “We should not be trying to

create an extremely lax regulatory environment in order to attract that kind of business…What we are trying to do is to

bring the banks and cryptocurrency fintech startups together to see if there is some understanding they can reach…

Some of these [crypto] activities are indeed quite opaque. I would not blame the banks for not opening the bank

accounts.”

-- Ravi Menon, Managing Director of Monetary Authority of Singapore

Source: reuters.com, newsbtc.com, bloomberg.com Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 38


V. Bank/Institutional efforts

Central Bank Response

• Monetary policy: Global central bank discussion around whether to introduce a digital version of

paper notes and coins (cash) has reduced over recent months. Sweden is still to make a decision

over whether to introduce an e-Krona but provide an update on the technicalities of such a system.

Other regions investigating include South Korean province Gyeongbuk to replace city-issued gift

certificates, Thailand to facilitate bank liquidity and risk management

and India starting research to see if a digital rupee would be less costly

than paper cash. China’s central bank continues to research the topic.

• The BIS has introduced a database of cryptourrency related regulatory

announcements which find that most new announcements are related to

warnings about the markets (chart).

Very few are about central bank digital currencies.

100

CBDC

90

Warning

80 Interoperability

70

AML/Infrastructure

Legal status

60

50

40

30

20

10

Source: BIS, Morgan Stanley Research

0

H1

2015

H2

2015

H1

2016

H2

2016

H1

2017

H2

2017

H1

2018

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 39


V. Bank/Institutional efforts

Bank’s Response to Bitcoin: Limited

Who clears Bitcoin futures?

Yes

No / Still Reviewing


GS


JPM


• On a case-by-case basis

• Requires 100% margin for some trades

• Exploring the potential for market-making

ABN Amro

• Only for certain clients who request

approval in writing

• Assesses client’s trading systems and track

record in meeting risk limits





BAC

C

RBC

SocGen


Interactive Brokers

• Allows investors to take a short position


Wedbush Securities

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 40


VII. Blockchain as a disruptor

Blockchain through the MS FinTech Gauntlet

Source: Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 41


VII. Blockchain as a disruptor

Where Blockchain Works Best, First

• Trusted/known participants on both sides of transaction – e.g. B2B payments

• Transaction fee rates at risk from more efficient technology – Cross-border payments

• Trade settlement

• Client data handling – KYC, Client Onboarding etc. (although APIs may be more efficient)

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 42


VII. Blockchain as a disruptor

Banks Around the Globe Testing Blockchain Across a Wide Range

of Use Cases

Europe Use case Status

ABN Amro Escrow management solution Commercially launched

Allied Irish Bank Domestic interbank payments Pilot

BNP Paribas Trade finance Pilot

Credit Suisse Syndicated loans Commercial launch expected in 2018

Deutsche Bank Know Your Customer Proof of concept

Societe Generale Agricultural commodity trade Successful testing

North America Use case Status

Bank of America Trade finance Proof of concept

Bank of New York Mellon US Treasury bond settlement Rolled out

Citigroup Digital payment solution for private securities Pilot

Goldman Sachs Equity swap trading Testing

JP Morgan Cross-border payments Patent filed

Wells Fargo Private label MBS securitization Testing

Asia Use case Status

HSBC Trade finance Successful testing

Hana Financial Group Digital loyalty network Building

Korean Banks Customer identification Pilot

Mizuho FG Derivatives trading Successful testing

Woori Cross border transaction processing Pilot

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 43


VII. Blockchain as a disruptor

Banks’ Response to Blockchain: Proofs of Concept Proliferate

Marco Polo Initiative

Fusion LenderComm

Distributed Ledge for

Swap Trading

BNP, Commerzbank, ING,

TradeIX, R3

What: a solution for postshipment

trade financing

powered by the TiX platform from

TradeIX and R3 Corda

blockchain technology

Roll Out: Announced intentions

to pilot

BNP, BNY Mellon, HSBC, ING,

State Street

What: blockchain-based online

marketplace for syndicated

loans, offering real-time credit

agreement, etc. directly from

agent bank loan servicing

platforms to lenders

Roll Out: Became commercially

available in Apr. 2018

GS, JPM, Citi

What: tracks swaps contracts

post execution, record

amendments or terminations of

the deals, stock splits and

dividends.

Roll Out: Completed pilot

Source: Company Data, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 44


Key Infrastructure Use Cases of Blockchain by Banks

VII. Blockchain as a disruptor

Utility Settlement

Coin

BNY Mellon

What: Blockchain-based

platform for US treasury bond

settlement. Serves as an internal

backup to the core system

Roll Out: In use at BNY Mellon

BARC, BK, CIBC, CS, DB,

HSBC, MUFG, NEX, SAN,

STT, UBS, Clearmatics

What: Asset-based digital cash

instrument on blockchain

technology for global institutional

financial markets

Roll Out: Entering Phase IIIb of

pilot

JPM launched with 75

participating banks

What: Leveraging Quorum, a

permissioned variant of

Ethereum developed by JPM, to

deliver faster international

payments for correspondent

banks

Roll Out: Launched September

25, 2018

ASX, Australia’s Stock

Exchange

What: Retooling legacy systems

from CHESS to Distributed

Ledger on Digital Assets

Holdings Platform

Roll Out: Targeting Release 2Q

2021

Source: Company Data, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 45


Key Infrastructure Use Cases of Blockchain by Banks

VII. Blockchain as a disruptor

Prudential

ING

Fidelity

Santander

Product: Fasttrack Trade

What: teamed up with StarHub in

Singapore to launch a

blockchain-based digital trade

platform for SMEs to be able to

find business partners and

distributors, make payments, and

track goods

Announced: November 2017

Roll Out: In service

Product: Zero-Knowledge Set

Membership

What: cryptographic method that

allows a party to prove to another

party that a given system is true,

without conveying additional

information

Announced: November 2017

Roll Out: In service

Product: Trade Platform

What: plans to build a scalable

infrastructure and the platform

will custody bitcoin, etherum and

others. Fidelity will hold the

cryptocurrencies in cold storage.

Announced: October 2018

Roll Out: Early 2019

Product: One Pay FX

What: a blockchain based app

for cross-border FX, initially to be

rolled out for Santander’s

customers in Spain, U.K., Brazil

and Poland

Announced: May 2016 (Spain)

April 2018 (others)

Roll Out: In service

Source: techwireasia.com, ibtimes, forbes.com, coindesk.com , Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 46


VII. Blockchain as a disruptor

Blockchain Use Cases by Corporates

MetLife Asia

Pemex

Maersk

Walmart

Product: Vitana

What: worlds first automated

insurance product for gestational

diabetes launched in Singapore.

Utilizing blockchain to securely

connect customers electronic

medical records via mobile

device in order to issue an

insurance policy within minutes

Announced: August 2018

Roll Out: In service

Product: Beluga Pay

What: pilot program begins with

one Pemex gas station that will

allow payment via the

cryptocurrency Beluga Pay.

Target is to onboard over 100

gas stations using Beluga Pay.

Announced: November 2017

Roll Out: In service

Product: TradeLens

What: Maersk and IBM

announced intent to established

a joint venture to conduct global

trade using blockchain,

TradeLens is their distributed

ledger technology (DTL) platform

for supply chain. TradeLens

currently has only one carrier on

the platform, Pacific International

Lines

Announced: January 2018

Roll Out: In service

Product: Walmart Food

Traceability Initiative

What: Walmart is asking

suppliers to trace leafy green

products back to the farm by

using a blockchain technology

platform built in collaboration with

IBM

Announced: September 2018

Roll Out: September 2019

Source: businesswire.com, medium.com, coindesk.com, walmart.com, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 47


Blockchain’s Final Stop?

Source: Clipart.com, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 48


AI and Blockchain are Mortal Enemies

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 49


Watch out for Quantum Computing

Source: clipart.com, Morgan Stanley Research

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 50


VIII. MS Research coverage

MS Research on Cryptos/Blockchain

• Diversified Financials: Exploring global cryptocurrency regulations (21 Aug, 2018)

Cryptocurrency: Why a Country May Be Interested in Digital Currency (8 May, 2018)

Crypto Mining: After the Gold Rush (1 May, 2018)

Cryptocurrency: Where are Exchanges Based? (25 April, 2018)

Cryptocurrency: Features of a Bitcoin Bear Market (March 19, 2018)

• Global Utilities: Bitcoin demand > EV demand? (10 Jan 2018)

• Global Payments, Banking, and Technology: Bitcoin Decrypted: A Brief Teach-in and Implications (18 Dec 2017)

• Brokers: Will Bitcoin Futures on CME & CBOE Open the Door for Discount Brokers? (7 Dec 2017)

• Freight Transportation: Blockchain in Freight Transportation: Early Days Yet but Worth the Hype (24 Nov 2017)

• Payments and Processing: Bitcoin, Ethereum, XRP: Decrypted! Takeaways (21 Sep 2017)

• Payments and Processing: Decrypted! 9 Key Questions Going into our Crypto/Blockchain Event (18 Sep 2017)

• MasterCard Inc: AI vs. Bitcoin: Buzzword Battle for Supremacy. Or eventual cooperation? (21 Aug 2017)

• Western Union Co: Circle and Ripple Bringing the Blockchain Risk (19 Jun 2017)

• Global Financials and Payments: Blockchain: Unchained? (16 Jun 2017)

• Global Financials and Payments: Fintech – A Gauntlet to Riches (17 May 2017)

BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 51


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BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 52


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BITCOIN DECRYPTED! A BRIEF TEACH-IN AND IMPLICATIONS OCTOBER 2018 54


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